Investment Philosophy of Nalanda Capital

• Avoid Big Risks

• Buy high quality at fair price
• Don't be lazy – be very lazy
 Avoid Big Risks Buy High quality at fair price
AVOID BIG RISKS
2 TYPES OF ERRORS – TYPE 1 AND TYPE 2
• Type 1: Error of commission, False positive. When one make a bad
investment by erroneously thinking it is good.
• Type 2: Error of omission, False negative. When one reject a good
investment by erroneously thinking it is bad.
Better to make more type 2 errors than type 1 errors.
Practical ways to reduce type 1 errors - a) Be wary of crooks,
criminals & cheats b) Avoid turnarounds c) Detest Debt d) Ignore M&A
junkies e) Avoid fast changing industries & f) Avoid unaligned [with minor
stakeholders] owners - 1) Govt owned entities[ PSUs]
2) Indian subsidiaries of foreign companies[Nestle] & 3) Indian
Conglomerates [Tata companies]
Don't be lazy - be very lazy
BUY HIGH QUALITY AT FAIR PRICE
WHAT TO BUY
A)Single filter to remove many bad companies and select some good companies. - ROCE.
Logic is that a single primary quality usually brings with it many other good qualities.Can
have other attributes like good mgmt team, Sustainable competitive advantage etc.
Drawbacks: This is only a starting point & not an assurance that all are good companies.
B)More robust a company, more chances of its evolution. Robust business evolve by
taking calculated risks Ex: Wal-mart & Page Industries. Robustness Is a Proxy for
Evolutionary and Business Success but Doesn’t Guarantee It. The Only Way to Protect
Against Loss of Robustness Is Entry Valuation
C)
 Buy High quality at fair
Avoid Big Risks Don't be lazy - be very lazy
price
Sl Step Reason
Avoid Big Risks:
1 Be vary of criminals, People don't change. So a crook will be crook again
crooks & cheats Ex: Brightcom group
•Before Making Money, Learn Not to Lose Money
•Two types of errors – Type 1 and Type 2 2 Avoid Turnarounds Ex: IBM's successful turnaround & JC Penny
•Type 1: Error of commission, False positive. When one make a bad unsuccessful one. No one knows what works and
investment by erroneously thinking it is good. what doesn't
•Type 2: Error of omission, False negative. When one reject a good 3 Detesting Debt Opportunities come for companies with lots of cash
investment by erroneously thinking it is bad. & low/zero debt. Ex Asian Paints distributing
bonus during COVID
•A great investor is a great rejector 4 Ignore M&A junkies M&A comes with opportunity costs. Ex: BAYER's
•Imagine 4000 stocks in stock market with 1000 good and 3000 bad issue with MONSANTO acqn
companies. Reducing type 1 error increases ones chances of having a
great profit. So objective will be to reduce type 1 error as much as
5 Avoid fast changing Near impossible to predict winner in such
possible. Excel demo industries industries. Ex: Rail rush, Dotcom

•Buffets two rules of investing [in lines with the philosophy of reducing 6 Avoid unaligned owners – Not aligned with individual stakeholders Ex: PSU
type 1 errors]. a. Govt owned[PSUs] b. prioritize govt initiatives, Indian conglomerate not
• Never lose money Indian Conglomerates able to focus on single business. Indian subsidiaries
[Tata], Indian subsidiary of given lower priority compared to Global companies
• Never forget rule number 1 global companies original company
One downside of this approach is that missing potentially attractive [HUL,NESTLE etc]
investment. We are willing to live with this downside. Ex: Missing out
on Tesla, Eicher motors etc.
 Buy High quality at fair
Avoid Big Risks Don't be lazy - be very lazy
price
Evolution Examples:
Animal Scenario Type 1 /Type 2 errors

Prey - Deer Approaches a lake In case there is a crocodile or some other predator waiting in the water, if the deer commits a type 1 error, it faces the
for drinking water prospect of losing its life. So, it's better off not taking that risk.
In contrast, if there is no predator and the deer misses drinking water, it commits a type 2 error. However, the opportunity
cost is much less severe compared to the previous case, where it could lose its life.

Prey - Deer Mating Deer don't try to claim a harem unless they know they have strong antlers that can help them defeat other deer. Therefore,
before any conflict, deer will try to display their masculinity by dancing and emitting sounds. This behavior minimizes the
risk of a fight, as losing their antlers means losing the opportunity to mate ever again. So, deer try to avoid committing
type 1 errors (taking unnecessary risks) as much as possible.

Predator - To attack/ not attack Cheetahs don't attack deer unless they are sure they can chase down the deer or if the deer is already within range. A failed
Cheetah a deer or an attack wastes precious energy, leaving them unable to hunt other deer.
unknown creature
Prey - Robotic spiders When bumblebees approach flowers, some of them might be captured momentarily by robotic spiders in an experiment.
Bumble bee are kept in some of the After being released, these bees tend to avoid going near the flowers again, thereby reducing their type 2 errors.
flowers.

• Focus on minimizing type 1 errors (bad investments) even if it means some type 2 errors (missed opportunities).
• In investing, reduce the number of companies you hold to minimize type 1 errors. Only invest when highly confident
about the risks and potential.
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Avoid Big Risks Don't be lazy - be very lazy
price

What type of stocks to buy How to buy those type of stocks

Siberian Solution - Single Filter to reject many companies in a single shot

Primary Filters: a) Avoiding crooks, criminals & cheats b) Avoid turnarounds c) Detesting debt [as less debt as possible]
d) Ignoring M & A junkies e) Avoid fast changing industries f) Avoid unaligned owners

Secondary Filter: A single filter to reduce the investable space to a certain limited number for further investigation.

Attributes of the secondary filter: Rejected Filters:

a) Quantifiable - should be easily measurable
b) It should remove most, if not all, low-quality
businesses.
c) It should select most, if not all, high-quality
businesses.
a) Great Management Team- Hard to access through interviews
or public appearances
b) Fast revenue growth - Can mask underlying problems and does not
guarantee success (e.g., dot-com bubble, WeWork).
c) High margins: - Can be misleading without considering cost
structure and long-term viability (e.g., dot-com companies vs.
Costco vs. Tiffany).
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What type of stocks to buy How to buy those type of stocks

Siberian Solution - Single Filter to reject many companies in a single shot

Nalanda uses historical return on capital employed (ROCE) to shortlist businesses.

• ROCE: Operating profit as a percentage [%] of capital used (excluding excess cash).
• Benefits:
• Considers both profit (numerator) and capital efficiency (denominator).
• Identifies businesses that generate high returns on invested capital.
• Why not margins? Margins don't tell you how much capital was needed to achieve them.
• High ROCE suggests strong operations, efficient capital use, and potential for long-term success.

Secondary likely attributes Also likely have

a) Great Management team a) Superior products and services [Product Team]

b) Sustainable competitive advantage b) Prudent capital allocation [Finance Team]
c) Good capital allocation c) Strong employee base [HR Team]
d) Takes calculated risks for innovation d) Efficient cost structure
e) Healthy balance sheet
f) Continuous Innovation [Innovation Team]
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What type of stocks to buy How to buy those type of stocks
Siberian Solution - Single Filter to reject many companies in a single shot
High ROCE: Good Starting Point, Not a Guarantee
Benefits of High ROCE as an Initial Filter:
• Identifies companies with many desirable qualities (indirectly).
• It is easy to identify and eliminate low-quality businesses.
• Provides a cushion for companies facing temporary challenges.
Limitations of High ROCE as Initial Filter:
• Past performance doesn't guarantee future success (e.g., monopolies,
temporary advantages).
• High ROCE companies can still make mistakes and decline.
• Excludes potential future winners with lower historical ROCE (e.g.,
Netflix).
Author's View:
• Focuses on average performance, avoiding many bad companies.
• Willing to miss some winners to avoid a large pool of losers.
• Prefers a reliable approach over chasing uncertain high returns.
Overall, high ROCE is a valuable initial filter but shouldn't be the
only investment criterion.
Don't be lazy - be very lazy
EVOLUTION TAKEAWAYS
Evolution lesson: Dimitri belydev has used a
single attribute – behavioural attribute of
tameness - to try to domesticate wild foxes. By
only selecting this feature and through
natural selection, over some generations they are
able to domesticate wild foxes.
Similary a single attribute change can result in
a lot of other changes.
So focus has to be on a single attribute
which can gauge a business in general.
Nalanda believes that High ROCE is the single
attribute which can do wonders to a business
 Buy High quality at fair
Avoid Big Risks
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What type of stocks to buy
The paradox of Mckinsey and Sea urchins
Businesses must be robust to evolve.
Robustness takes many forms – like multiple levels in
evolution. Some forms mentioned below.[Try to come up
with many other forms ex: No meaningless M&A]
a. Having high historical ROCE over a long period
b. Has a fragmented customer base
c. Has no debt and has excess cash
d. Has built high competitive barriers
e. Has a fragmented supplier base
f. Has a stable management team
g. Industry is slow changing
No business will have robustness in all the
above forms. Idea is to have a business with as many
robustness parameters as possible.
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EVOLUTION TAKEAWAYS
Dual trick of changing while remaining unchanged helped
the evolution. This happens due to 2 reasons
a) Being robust at multiple levels and
b) Neutral mutations being source of future innovations
Robustness at multiple levels:
The genetic code [basic thing in living organisms] is
robust. Last codon is irrelevant for the amino acid formation
in genetic code. Synonymous mutation helps in the
redundancy of third codon.
Proteins formed from genetic code are robust. Ex: A protein
has 263 aminoacids, of which 84% can experience mutation
without changing the enzyme.
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The paradox of Mckinsey and Sea urchins
Assessing evolvability indirectly by measuring robustness directly
High ROCE businesses in COVID performed much better compared to the EVOLUTION TAKEAWAYS
ones with low ROCE [robustness]
Ex: Page industry gain market share over peers in covid
Robust business evolve by taking calculated risks Body is robust. Ex Sea Urchin has 2 sub species 'T' and
Akin to neutral mutations in evolution, taking calculated risks is the secret 'E'. One reproduces through larvae, other through eggs, but
for business evolvability.
Ex: Wal-mart & Page Industries.
both have similar functionalities.
Robustness Is a Proxy for Evolutionary and Business Success but Doesn’t
Guarantee It [necessary but not sufficient condition] Evolution of evolvability
a. Robustness decreases over the years Neutral change does not alter the primary function, it can
b. Company is too robust that it can not grow/evolve.
alter a secondary function, thereby becoming the source of
The Only Way to Protect Against Loss of Robustness Is Entry Valuation a future innovation. This is made possible because
Margin of safety is the mantra, as robustness cannot be gauranteed to of robustness at multiple levels.
persist or growth might hamper.

The median trailing twelve-month (TTM) entry PE ratio for the Nalanda
portfolio is 14.9. The median TTM PE for the period from 2005 to 2020 for
India’s primary index, Sensex, is 19.7 and for the Midcap Index is 23.8. [25%
less PE than the index itself]
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The perils of a pavlovian
Problems of Proximate Focus
Among all the philosophical issues that we have imbibed from evolutionary EVOLUTION TAKEAWAYS
biology, recognizing the difference between proximate and ultimate causes is
right on top.
The how v/s why
All the proximate causes are divorced from the causes that could lead to a Horns of dung beetle:
business success or failure, which leads to the price changes in long term. As
permanent owners, this is very important for Nalanda.
Understand the how of this? How is it possible to have horns
? Use genes to produce horns. - Proximate Causes
Some Proximate causes mentioned below [not an exhaustive list] Understand the why of this? Allow the bearer to garner more
resources, defend their nests, and compete for the best
Proximate Macro economic causes:
Fed rate hikes, fiscal deficit news etc. These do not effect the business females, thereby reproducing more than the males without
performance of great companies over the long term. horns. - Ultimate Causes
In addition, if one need to consider the impact of a news on a particular
company, impact on multiple parameters [impact on revenues, costs,
competitors etc] needs to be considered, which is near to impossible.
The pain and gain of headline harrasments
As the Indian market started falling from March 2008, we started buying high-
Weightage in the investment decision is Zero.
quality businesses, and we did not stop until early 2009. The further the
market fell, the greater our buying frenzy was.
Proximate Market-Related Causes
We ignored all proximate causes of stock price decline and focused
there are many other occasions when the market moves because, well, it
exclusively on the ultimate sources of success of a business.
moves. Such is the nature of markets.
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The perils of a pavlovian
The proximate causes of market movements are unknown, and in my view,
unknowable. Let’s go back to July 24, 2002. The Dow soared 489 points, the EVOLUTION TAKEAWAYS
second-best point gain ever and the best percentage gain since 1987.10 The
reason? Even after reading many news articles, I am not sure. We ignore all
market forecasts. However, when proximate causes get divorced from ultimate ones, markets
can offer even great businesses at a fair price. We took full advantage of this
Proximate Thematic Causes temporary insanity to wade in all guns blazing. Our trailing twelve-month
Thematic investing is very risky, because it is very easy to understand (TTM) PE multiple for buying Page? 18 times.
for everyone. So the bubble can be big. For example, now the trend is
on "new-age automotive companies will rule the world", This helped The idea being that the addiction of the fund managers to these headlines
many companies like Nikola, Velodyne Lidar etc to have bumper IPOs and their pavlovian instinct to act provides great opportunities for the fund
and high market valuations. However, there are no profits to show by these managers who have the fortitude and the courage to act in those scenarios.
companies. So, such trends can and should be ignored.
Ex: Refridgerators theme in india. JCHAC share in portfolio is a risk.

Proximate Company-Specific Causes

I have been an investor for more than two decades, and this is where I
stumble most often. As usual, at the extremes, the decision is
straightforward. If the share price declines owing to a downturn in one or two
quarters, we ignore the decline, considering it a proximate event. But if the
decline results from a loss of market share for 3 years in a row, we ask if
there is something fundamentally wrong with the business. It is the gray area
in between these extremes that creates the worst headaches.
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DARWIN ATE MY DCF
Investment Approach at Nalanda:
We at Nalanda pursue the profession of investing the same way evolutionary
biologists do: We interpret the present in the context of history. Evolutionary
biology does not make predictions as physics and chemistry do. Nor do we.
Instead, our investment approach attempts to explain the present by
interpreting what occurred in the past.
Investing as a Historical Discipline
Many investment professionals expend enormous energy pontificating over
the future. At Nalanda, focus is entirely on the past and not on the future.
Lessons from Darwin
• We interpret the present only in the context of history.
• We see the same set of historical facts as everyone else.
• We have no interest in forecasting the future.
Study the history of a business to
• Understand its financials,
• Assess its strategies,
• Gauge its competitive position, and finally
• Assign value to it.
EVOLUTION TAKEAWAYS
Darwin's focus on history
In his groundberaking book "On the origin of species", Charles Darwin focussed
on the historical information to make deductions about ongoing evolutionary
processes.
Three revolutionary theories - Natural Selection, Sexual Selection & Common
Ancestor
Natural Selection: a) Random variation b) Differential fitness among variants and
c) Heritbale quality of the traits. Repetition of these 3 ingredients multiple times
over millions, even billions of years. Ex: Giraffe's long neck
Best examples of Darwin’s remarkable ability to view history in a new light is
his discussion of domestic pigeons.
If man can alter the characteristics of piegeons over 3000 years, how much
can nature change the characterisitics of organisms over millions or billions of
year. This interpretation is a bold step taken by Darwin.
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DARWIN ATE MY DCF
Understanding the financials of a business
As a company posts its quarterly results do an absolute and relative analysis
of the results
Absolute: a) Why has revenue growth declined compared to previous
quarter b) Why has margins increased? [Is there a reduction in sales and
marketing expenses ?] c) What led to decline in receivables? Etc
Relative: We compare Berger’s quarter, last twelve months, and longer-term
performance against competition on parameters like revenue and profit
market share, ROCE, and free cash flow, among many others.Etc
Understanding the strategies of a business
we assess historical strategies to understand businesses. A small sample of
strategic issues we focus on: Which customer segments have you targeted?
How have your products or services served the needs of customers? In what
ways have you been different from the competition? How have you allocated
capital historically? What has been your capital structure, and why?
We ask these questions not to evaluate answers objectively but to subjectively
assess if they fit preexisting hypotheses of success or failure.
Assessing the strategy of a business is useless unless we have a strategy to
comprehend the strategy
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EVOLUTION TAKEAWAYS
Sexual selection
This form of selection depends, not on a struggle for existence in relation to other
organic beings or to external conditions, but on a struggle between the
individuals of one sex, generally the males, for the possession of the other
sex. Need for reproduction is another important/vital need for a species in
addition to the need for surivial. Sexual selection is based on this
above principle.
Common Ancestor
The classification system seems right to us because it reflects the path of
evolution of all living beings on Earth. Linnaeus demonstrated that all organic
life is connected. He credited God for this natural order; Darwin concluded that it
could be so only if all organisms had one or just a few common ancestors.
Darwin provides two additional pieces of proof of common ancestry. a) First, the
early-stage embryos of seemingly unrelated groups like mammals, birds, and
reptiles resemble one another so closely that it is hard to distinguish between
them.
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DARWIN ATE MY DCF
Gauging the Competitive Position of a Business:
Real question is not just about sustainable competitive advantage but about EVOLUTION TAKEAWAYS
being consistently better than the competition. And what is the meaning of
“better”? For us, it relates to measurable parameters like ROCE, market
Second, he offers vestigial as evidence of the kinship of ancestral and living
share, free cash flow, balance sheet strength, consistency of financials, and
forms. Vestigial organs persist in an organism but have lost their function. He
other such measures.
offered many examples: mammaries in male mammals, fused and useless wings
We assess all these historically. So the question for us is never, “Will you be
in beetles, gills in the land-dwelling tadpoles of the common salamander, teeth in
better than the competition,” but “Have you consistently been better than the
the upper jaw of calves that never cut through the gums, and rudiments of hind
competition?”
limbs and a pelvis in boa constrictors.
Assigning Value to a Business
Darwin is able to formulate these 3 theories as he was able to view
Let me take the example of a noncyclical business growing at a moderate
the historical facts, through the lens of his subjective. This is what I need
pace. We know the market-trailing PE multiple is about 19 or 20. We pay a
to create for myself. Because facts are the same for everyone. It is the lens
multiple at or below the market for an exceptional business with high ROCE,
through which you see that makes all the difference.
a wide moat, and low business and financial risk. The median trailing PE
multiple for our portfolio when we bought the companies is 14.9. As long-term investors, we have dissociated ourselves from the “what will
Oh, one last point on valuation. It is always the last thing we discuss. When happen?” obsession and replaced it with “what has actually happened?”
evaluating a business, risk comes first, quality second, and valuation last.
But sometimes, this understanding of current through historical
lens sometimes does not work Ex: Non sustenance of past glory –
like Nokia[fast changing industries] b) Turnaround stories - starbucks.
c'est la vie
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BACTERIA AND BUSINESS REPLAY THE TAPE
Nalanda does not invest in businesses, but in convergent patterns.
EVOLUTION TAKEAWAYS
Ex: Investment in Naukri.com due to two different convergent patterns
a. Yellow pages is great business [high ROCE & cash generating abilities],
Evolutionary Convergence: Unrelated organisms in similar environments
with winner takes it all pattern. - Naukri is new age yellow pages.
develop the same body form and adaptations independently
b. Job portals across the world have worked wonders.
Convergence is Ubiquitous.
Ex: a. Different anoles [ different species] in four different islands of carribean
Kahneman's outside view and Convergence
[Cuba, Hispaniola, Jamaica & Puerto Rica] developed same body structures.
Ex: Kahneman's team estimated that it would take 2 years [inside view] for
b. Placental mammals and Marsupials[Australian mammals] developed similar
them to finish a text book. Even though they are aware of the fact that 40%
body structures though belonging to different species.
of such efforts never bear fruit & the rest will take 8-10 years to complete. It
c. Dolphins [ Mammals ] and Sharks [Fish] have same fusiform body shape.
took kahneman's team 8 years to complete, in line with "Outside view".
This because different animals solve similar problems in a similar manner.
d. Convergent behavior is observed in humans and leafcutter ants. - both practise
Practical application of outside view and convergence
agriculture.
Ex: Prospect of investing in an Asian Airline business
e. Cocoa, Coffee and Tea plants, belonging to different species, produce caffine
1. Perform a detailed analysis of one Asian airline, or
to protect themselves from predators.
2. Focus on understanding the outside view of the airline industry.
Convergence in nature symbolizes a profound fact: There is a pattern to
success and failure.
Studies reveal that all the airline businesses are failures across the globe
Convergence in business symbolizes a profound fact: There is a pattern to
and will mostly bear the same outcome in the Asian scenario as well.
success and failure.
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BACTERIA AND BUSINESS REPLAY THE TAPE
Some more practical ways of application of outside view and convergence
In India marrying a spouse is in a way similar to owning spouse's family
Marriage -> Spouse -> Spouse Family
Buying a business -> Company -> Industry
There are 3 different types of industries by attractiveness & profitability
a. Companies struggle to keep head above water. Ex: telecom towers,
airlines, garment manufacturing, and commodity chemicals
b. Industry is attractive for its participants. Ex: IT outsourcing, enzymes,
paints, cookers, BPO, bearings, compressors, consumer electricals,
sanitaryware, & steam turbines etc.
c. Only some companies make money. Ex: Retail
The list of companies to avoid - crooks, turnarounds, debt, M&A junkies, fast
changing industries & unaligned owners - is composed by identifying the
patterns and convergence through years of experience
Pricing through Convergence lens - Previous research has shown that
the value stocks generate more returns than growth stocks. So, being highly
price sensitive is a pattern that has generated great returns over the years. So
instead of becoming "Shaana", it is better to accept ignorance & pay PE < 20.
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Application of Convergence:
“Everything should be made as simple as possible, but not simpler.”
The greater the similarity of “conditions” in businesses, the greater is the benefit
of using the principle of convergence in investing.
German Real estate stock : Might be a good idea to see real estate stocks in
other european countries like France & Spain
German Robotic manufacturer: Might be good idea to look at similar global
companies as there are more similarities across manufactures than regions.
German Hospitals – May be a similar regulated environment in UK, Italy &
the Netherlands.
So based on the context, the similarities need to be taken into account.
One situation in which we never apply convergence is when the industry is
new or fast-changing. In evolution as well, convergence is more significant
in older organisms like plants & insects rather than birds & animals
Some Lessons on Convergence
1. Convergence is the dominant pattern in the natural world.
2. On rare occasions, it isn’t. [Amazon which is successful, even though it had
diverse businesses, but still able to compete and win]
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DON'T CONFUSE A GREEN FROG FOR A GUPPY
Dishonest signals galore in the business world
A “dishonest” signal does not imply that the sender is dishonest, although
they might be; it simply means that the signal may not communicate what it
is supposed to. Just as in the natural world, an honest person in a business
setting can send a dishonest signal without necessarily having a bad intention
Different type of signals by the companies are discussed below.
Press Releases
making investment or divestment decisions based on a press release is not
good. Press releases are a cheap signal given by companies to make
competitors envious and to attract investors, employees, and customers. It is
better to not give them any importance.
Management Interviews in the Media
Usually, management personnel are good sales persons and presenters. So, it
is very difficult to find any flaw in company from the management
interviews. It is very cheap signal and is better to ignore it.
Investor Conferences & Roadshows
The intent of these roadshows is to attract investors. So, it is better
to ignore the communication from them. This is a cheap signal as well.
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EVOLUTION TAKEAWAYS
The blessings & perils of signals.
In the plant & animal world, there are many honest and dishonest
signals generated by different species. Examples shown below
Dishonest Signals:
A. Green Frog - mimicks the low-pitched croak of its larger rival is a dishonest
signal to attract female frogs.
B. Similarly fiddler crabs develops large claws to attract females.
C. Plants - Australian orchid emits a smell of a female wasp to attract male wasps
for "mating". In process, male wasps do the cross pollination.
D. Milk snakes use similar color as coral snake –Batesian Mimicry.
Honest Signals
A. Male guppies [Fish] have bright red coloration to attract females.
B. Coral Snake uses aposematic colors to warn the predators.
The words “honest” and “dishonest” do not say the intent of the signaler. They
point to the effect of the signal on the receiver. When a signal fools the receiver, it
is dishonest; when the receiver understands the signal for what it is, it is honest.
Neither the guppy nor the milk snake possesses the ability to dictate its body
color. The orchid is not deliberately releasing smell, nor is the fiddler crab
consciously building a large fake claw. These creatures are all products of natural
selection honed over millions of years
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DON'T CONFUSE A GREEN FROG FOR A GUPPY
Earnings guidance
It is highly difficult to guess the earnings correctly, as there are a lot
of variables involved. So, this is a useless signal and dishonest one at best.
Face-to-Face Meetings with Management
Usually, management personnel are good sales persons and presenters. So, it
is very difficult to find any flaw in company from the management
interviews. It is very cheap signal and is better to ignore it.
Past Operating and Financial Performance
This is an honest signal as no one can fake the past performance. It is an
undeniable signal of the company’s actions and outcomes. Conference calls
are also one of the honest signals by the company’s management.
Scuttlebutt discussions - talking to customers, dealers, ex-employees
A good reputation is a very costly signal—and hence an honest one—because
building a name for oneself in any industry consumes enormous management
time and effort over many years, if not decades.
First reason supporting: People have less incentive to lie, unless they have
a strong grudge against the company.
Second reason. People get a good idea regarding
the company's management quality
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EVOLUTION TAKEAWAYS
Handicap principle - Honest Signals.
Honest signals are the ones that are costlier to make for the sender and
hence are handicaps. But still they emit those signals.
Ex: Cartenoids used in pigmentation in finches, guppies etc.
Cartenoids are used for the red pigmentation of these species. Cartenoid is
difficult to find & eat. And those animals which have high amount of cartenoids
are healthy. They use these cartenoids to secondary areas like body coloration,
rather than for some other useful function. In addition,
the pigmentation attracts predators and can lead to death for the species.
The business ‘grapevine’ is a remarkable thing. It is amazing what an
accurate picture of the relative points of strength and weakness of each
company in an industry can be obtained from a representative cross-section
of the opinions of those who in one way or another are concerned with any
particular company. - Philip Fisher in "Common stocks & Uncommon
Profits".
"Ignore the green frog and heed the guppy" - Evolution
"Ignore dishonest signals and capture honest signals" - Business world
 Buy High quality at fair
Avoid Big Risks
price
BIRDS AND BEARS BARE AN ABERRATION
Application to Business World
Daily, weekly, monthly, & quarterly rate of change in exceptional businesses
appears much greater than the rate of change measured over years & decades.
Grant–Kurtén principle of investing (GKPI).
When we find high-quality businesses that do not fundamentally alter their
character over the long term, we should exploit the inevitable short-term
fluctuations in their businesses for buying and not selling.
Pre conditions: GKPI requires us to own high-quality businesses that do not
fundamentally alter their character over the long term.
Critical character traits of a high-quality business are stellar operating and
financial track records, a stable industry, a high governance standard, a
defensible moat, increasing market share, & low business & financial risk.
Application of GKPI for buying
By exploiting short-term fluctuations. The market should almost never offers an
attractive price for high-quality business. However, on rare occasions, investors
who don’t subscribe to GKPI succumb to the pressure of temporary macro,
industry, or company issues, & provides an opportunity to buy a piece of an
exceptional company. It doesn’t—and shouldn’t—happen often, but when it
does, one need to go all in.
Don't be lazy - be very lazy
EVOLUTION TAKEAWAYS
Kurtens deduction from Bears Molars
Kurtén’s data show that evolution appeared to occur quite quickly when
measured over short periods and slowly over long periods. Thus, when measured
over 400,000 years, the rate of change of the molar was 0.41 Darwins, but over
8,000 years,it was an astounding 13.8 Darwins.
Grant's deductions from Finches
The beak shape of fortis was practically the same when measured in the mid-
1980s and the early 2000s, but its annual change was much more significant.It
does not seem to matter if the measurement period is thousands of years (bears)
or just a few decades (finches). The pace of evolution speeds up over shorter
periods and slows down over more extended periods.
Why and when to sell
Don't sell on valuation. Sell under the below three conditions
a) Decline in governance standards
b) Egregiously wrong capital allocation &
c) Irreparable damage to the business.
The maximum one can lose is the investment amount, but there is no limit to
how high a share price can climb. Given the quality of businesses in discussion,
it is better to run the risk of selling late and losing some capital than selling
early and forgoing substantial gain
 Buy High quality at fair
Avoid Big Risks Don't be lazy - be very lazy
price
BIRDS AND BEARS BARE AN ABERRATION

Fortune 500 Firms in 1955 v. 2015: Limitations of this strategy:

• 72 (14 %) continued to be a part of the Fortune 500 for sixty years. No investment strategy is foolproof. application of GKPI will have Kodak-
• 73 (15 %) became a part of a Fortune 500 business by 2015. like downsides, but in my experience, it works well most of the time.
• 60 - 75 (12–15 %) continued to do well despite being acquired or falling out of
the Fortune 500. Nalanda applied GKPI consistently to every business they have invested in,
• 280 - 295 (55 - 60 %) of the firms on the 1955 list failed. but not all have prospered. However, as a portfolio, this approach has worked
exceedingly well. This species has survived. Very well.
Learnings from the above data.
About 45% of good businesses remain good businesses.
Only 300 odd companies[3%] from 10,000 odd companies which started
between 1955-2015 were able to break in. Very difficult to get in.

1. “Long term” is genuinely long term: at least five decades, maybe more.
2. New businesses do replace old, but at a far slower rate than we think.
 Buy High quality at fair
Avoid Big Risks
price
ELDREDGE AND GOULD DREDGE UP INVESTING GOLD
Investing lessons from theory of punctuated equilibrium
• Business stasis is the default, so why be active?
• Stock price fluctuation is not business punctuation.
• Take advantage of the rare stock price punctuations to create a new “species.”
Business Stasis Is the Default, so Why Be Active?
In the business world, as in the organic world, stasis is the default. Great
businesses stay great. Bad businesses remain bad. Stasis is not static. During stasis, majority of species, as evidenced by their anatomical and geographical histories
the revenues grow, but the character of the company remains same. Areas
like AI, autonomous vehicles are not the ideal businesses where stasis can
be possible due to their pace. Inductive ways to prove that stasis is default.
Proof from personal experience
Unilever has maintained its preeminent position in tea and dozens of other
consumer products in India over many decades. toothpaste (Colgate), chocolate
(Nestlé), cars (Maruti Suzuki), innerwear (Page), consumer electricals (Havells),
biscuits (Parle, Britannia), hair oil (Marico), paint (Asian Paints, Berger), tires
(MRF), diagnostic services (Dr Lal), IT outsourcing (TCS, Infosys), kitchen
appliances and cookware (Hawkins, TTK Prestige), herbal supplements (Dabur),
and many more. These are great companies in 1990s and are great companies
even now.
Don't be lazy - be very lazy
EVOLUTION TAKEAWAYS
The Absence of Evidence Is Evidence of Absence
The absence of evidence of intermediate forms is evidence of their absence.
History of the organic world could be viewed as comprising long periods of
stability interspersed with brief periods during which new species emerge.
Gould said “As a central proposition, punctuated equilibrium holds that the great
in the fossil record, originate in geological moments (punctuations) and then
persist in stasis throughout their long durations.
There is a stasis for a long period of time and then punctuated equilibrium will
help make drastic changes to the organism & a new species emerge.
The ten-year average (PE) multiples of some of the leading consumer
businesses in India are astronomical. For example, Asian Paints, 56; Colgate
India, 43; Dabur, 44; Hindustan Unilever, 51; and Page Industries, 65. As
everyone knows that these are of great quality, their prices are
usually higher. Nalanda has been able to buy only Page, Havells, and TTK
Prestige since 2007. Our window of opportunity for buying these three was
only two to three months over almost fifteen years—a punctuation event that
lasted just 1 to 2 percent of this period.
Why sell :There are very few great businesses, and they are almost always
unbuyable. Hence, we buy very rarely, & when we do, we buy a lot. So, having
purchased these winners, given the stasis of their success, why sell?
 Buy High quality at fair
Avoid Big Risks
price
ELDREDGE AND GOULD DREDGE UP INVESTING GOLD
The fate of Fortune 500
• 40-45% of the businesses stayed great and are in Fortune 500
• Only 3% of new businesses were able to get into Fortune 500
1. Since the vast majority of businesses do not become great, our default strategy
is not to buy. We are lazy buyers.
2. We buy only if we can find a high-quality business that can stay in stasis over
decades. If we believe we have such a business, we don’t sell. We are very lazy
sellers.
A Conclusion from Climbing Concentration
Research is being conducted to check if great businesses are able to
take more share of business and market shares are getting concentrated.
1. There are a few large and successful firms in most industries.
2. These successful companies are becoming even more successful.
3. Weak companies are getting weaker.
Narrative of a 90 year old study
Performance of 26000 stocks to check if stocks outperform T bills.
8000 of 26,000 stocks, if purchased in 1926 and held until 2016 (or acquired or
merged), beat the market? Companies not just doing well but beating the market
over 90 years (or until they were merged or acquired). These great businesses
maintained their greatness over a very long period. Stasis was the default for them.
Once we own such a business, selling would border on being sinful.
Don't be lazy - be very lazy
Stock Price Fluctuation Is Not Business Punctuation
Two errors when stock price changes a lot.
First, they can treat an unfavorable stock price fluctuation as a negative business
punctuation. This mindset compels the investor either to sell a good business or
not to buy a good business when the price declines owing to a negative piece of
news or event.
When we find high-quality businesses that do not fundamentally alter their
character over the long term, we should exploit the inevitable short-term
fluctuations in their businesses for buying and not selling.
The second error is to regard a positive stock price fluctuation as positive
business punctuation. Doing so can lead to buying a lousy business (because it
seems that things have permanently improved) or not selling one.
How to avoid bad business on buying
No Sweets in the Fridge - the best way to avoid investing in bad businesses is to
ignore them and their stock prices
Business Knowledge, Not Stock Price Data - Until the business numbers (e.g.,
ROCE and free cash flow, not revenue growth) become attractive, we refuse to
engage with companies, and EdTechs are no exception
Do We Want to Own This Forever? - Our best protection against getting
swayed by a false positive is the question we pose for every investment: Do we
want to be permanent owners of this business? Are we absolutely sure that we are
willing to live with it permanently? Are we willing never to sell it?
 Buy High quality at fair
Avoid Big Risks Don't be lazy - be very lazy
price
ELDREDGE AND GOULD DREDGE UP INVESTING GOLD

Take Advantage of the Rare Stock Price Punctuations to Create a New “Species”
We invested 22 percent of our capital in just 2 percent of the period of our
existence. we invested $405 million (22 percent of our total capital invested over
fourteen years) in only three months, from March to May 2020 (which comprises 2
percent of the 169 months).
We invested 16 percent of our capital in 0.5 percent of working days. As the Indian
Midcap Index declined 28 percent during March 2020, we invested $288 million
(16 percent of the total amount invested until June 2021) over just seventeen days
(0.5 percent of about 3,500 working days over fourteen years). This amount, $288
million, invested in March 2020 exceeds the amount invested in twelve of the
fourteen calendar years since our inception— the only two calendar years during
which we invested more than $288 million
During this period of hyperactivity from March to May 2020 we were often
asked, “Why aren’t you waiting for things to get worse before buying?” My
answer was, “We can’t.” We have a straightforward rule that is also easy to
implement: Buy when the price is right. Unfortunately, not everyone follows
this rule. As implied by the question, a widely practiced rule is to buy when
the time is right. That is also a straightforward rule, but is it easy to
implement? We follow the former because we know the price we want to pay
for the business we want to own. It may or may not be the “right” price, but
we know it for sure. We have no way of figuring out the right time. Maybe
some folks do. Good for them.
Baby Cicadas stay under ground for 16 years and then come out for mating
season. This is how they sustained for many millions of years. Extreme
patience with Extreme action is the way to go.
 Buy High quality at fair
Avoid Big Risks
price
WHERE ARE THE RABBITS
Rabbits story linkage to investing
You are telling me that it is tough to find great companies to invest in; you are also
telling me that these companies can grow their profits reasonably predictably over
long periods. So why would you sell such a company in a hurry after you have
become fortunate enough to own it?”
Many More Reasons We Don’t Sell
Reason 1: Who Are the Richest? The Ones Who Never Sell
Analysis of the world's richest shows us that almost all of the top 100
are entrepreneur's who haven't sold their companies even when they
got great offers. Ex: Zuckerberg, Larry Page etc.
Reason 2: Empirical Evidence Shows That Owning Great Businesses Works
(Oh, So Well!)
The analysis of the stocks from 1926 to 2016 shows that more than 30 % of the
stocks have outperformed the market by great numbers. An even more interesting
finding is disproportionate amount of wealth is created by businesses that have
been held for longer periods. Point to be noted is that if average stocks are held
for longer duration, they destroy the value.
Reason 3: If There Is an Unbeatable Formula, Why Not Copy It?
Buffet is sharing the same formula of buying extraordinary businesses and sit tight
till they remain so. If the formula is tried and tested, why not follow it ?
Don't be lazy - be very lazy
EVOLUTION TAKEAWAYS
Darwin's theory of Natural Selection
This required variations to be small and continuous and natural selection to
work over very long periods through accumulated changes
Hugo De Vries' mutation theory
The new species thus originates suddenly[;] it is produced by the existing one
without visible preparation and without transition
****Intellectually, this was a much simpler assertion to understand than
Darwinism because it could be “visualized”— Darwin’s gradualism couldn’t
be. The world of investing is eerily similar. Everyone seems to know that the
stock price of AMC, a movie theater chain, tripled in May 2021, but how
many know that Home Depot’s multiplied 140 times over thirty years from
1990 to 2020
The Assault on Australia
Thomas Austin got 24 rabbits to Australia in 1859 which increased
to 10 billion by 1925.
 Buy High quality at fair
Avoid Big Risks
price
WHERE ARE THE RABBITS
Reason 4: How Else Do I Pay for My Mistakes?
When investing, it is imperative that one will end up making mistakes in the
selection of some great businesses. It is important that one does not sell the
winners as the gains made by a handful of great businesses will help cover the
losses made from other bad buys.
Reason 5: The Only Way to Benefit from Compounding Is to Stay Invested
First, if we own a high-quality business, the share price will most probably (but
not assuredly) react positively over the long run.
Second, the share price will rarely make big moves, and if I am not invested in the
stock on those particular days, I can bid farewell to substantial potential gains.
If we have done anything right, we have not done anything on days when selling
seems to be the most logical thing to do.
Reason 6: I Love Our Entrepreneurs
One of the great pleasures of our profession is that we get to know & build
relationships with the likes of Shobhit Uppal, Sudhir Agarwal, Dhruv Sawhney, &
K. S. Patel. So why should I give up this gratification for a few dollars?
Reason 7: Not Selling Makes Us Better Buyers
Usually selling decisions take up more than 40% of the time and energy of all
the fund managers. So, if the focus is on buying right & tracking the companies,
there is no point in keeping effort on selling the companies.
***** For investors , the Yaksha Prashna would be, “What is the greatest wonder
in the world of investing?” With due apologies to Yudhishthir, my answer is,
“Everyone sees immeasurable wealth being created by people who never sell, but
they think and act as if it is selling that creates wealth.
Don't be lazy - be very lazy
EVOLUTION TAKEAWAYS
Two surprises of the story
Small surprise, is that twenty-four rabbits became ten billion.
The bigger surprise—which is also counterintuitive—is the opposite
observation: Nothing happened for a very long time!
Objections to not having a selling strategy
Objection 1: Why Should I Hold On to 60 PE?
Because, on average, over the long run, great businesses have a way of making
us more prosperous than we ever thought possible. The earnings can increase and
might get the valuations back.
Objection 2: My “Incremental” Return Will Be Low from Now On
Having learned the expensive Shree lesson, my response to this objection is,
Incremental over what period? One day, one month, one year, three years, twenty
years? And why bother if it’s a stellar business? The rule for selling a great
business is simple: Don’t. You. Dare
Objection 3: There Is a Better Opportunity to Deploy Capital
There is a strong correlation between a fund’s underperformance and its portfolio
turnover. I don’t know what causes what, and frankly, I don’t want to know. We
are happy owning a great business and treating it as our home.
Objection 4: What Should I Do the Whole Day?
Investing is a unique profession in which inactivity can be hugely rewarding. It
has been so for us. We will continue to be lazy. Very lazy.